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Role of Agricultural Subsidies in Foreign Trade

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Role of Agricultural Subsidies in Foreign Trade!

As a part of export promotion strategy, besides various other measures, various types of export incentives have been evolved. These have been altered and modified from time to time to meet varying conditions. Broadly, these incentives can be classified into three categories, viz.

i. Fiscal Incentives:

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Under fiscal incentives, the important measures that have been in vogue are income tax concessions, customs draw-backs, refund of excise duty,- exemption from sales tax, provision for export undertaken, and facility for manufacture under bond.

ii. Financial Incentives:

These incentives refer to the provision of cash assistance for specified export promotional efforts and export facilities.

iii. Special Incentive Schemes:

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Besides the recent reforms in the export incentive structure, export profitability was sought to be improved through a variety of fiscal concessions, and explicit and implicit subsidies. These measures were considered necessary to neutralise the negative financial impact of high administered prices of inputs and differential tax incidence that exporters suffer vis-a-vis ‘across the border’ competitors.

Advance licence, export promotion of capital goods (EPCG) scheme, duty exemption pass book (DEPB), duty free import authorisation scheme and the drawback scheme are a few important schemes currently in operation.

These schemes were attractive when the customs duty levels were high, but they are losing their attraction in view of the continuous reduction in import duty. In the light of this, the current policy reforms have initiated corrective steps towards making the export-incentive mechanism more market-determined, as mandated by the WTO Agreement on Subsidies and Countervailing Measures (SCM).

WTO Agreement on Subsidies and Countervailing Measures (SCM):

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The SCM Agreement applies to non-agricultural products. It follows the traffic lights approach and classifies subsidies in three categories.

i. Red:

Subsidies with high trade-distorting effects, such as export subsidies, and those that favour the use of domestic over imported goods are prohibited. Developing countries with a per capita income of less than $1,000 have been exempted from this prohibition on export subsidies.

ii. Green:

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Subsidies that are not specific to an enterprise or industry or a group of enterprises or industries are non-actionable.

iii. Amber:

Subsidies that are neither red nor green belong to the amber category. They are actionable by the trading partners if their interests are adversely hit. The affected country can seek remedy though the dispute-settlement procedures or go for countervailing duties.

Issues of Agricultural Subsidies:

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Agriculture is subsidised in all countries, developed or developing. The US reportedly provides $30 billion of annual subsidies to its farmers, i.e. about Rs 1,50,000 crore. India budgeted Rs 63,676 crore as subsidies on food and fertilisers during 2008-09.

Agriculture is far more heavily subsidised in rich developed countries than in poor developing countries for two reasons:

i. Rich countries can afford larger amounts in subsidies.

ii. Agriculture typically ceases to be competitive as a country industrialises. This has been the case in much of Europe and the US.

In developing countries, subsidies are provided simply to ensure self-reliance and self-sufficiency. In India, agricultural inputs like fertilisers, water and electricity are subsidised. The issue of these subsidies has come in for much debate in more recent times.

This has happened essentially because of two reasons:

i. The rising burden of these subsidies has been questioned by policy-makers trying to correct fiscal imbalance.

ii. The issue of agricultural subsidies was brought to the centre stage with the establishment of WTO.

Rationale for Subsidies:

The rationale for subsidising agricultural inputs is to be traced to the role that these subsidies play in stimulating development of any country through increased agricultural production, employment and investment. However, there are arguments being advanced on both the sides.

Argument in Favour of Subsidisation:

i. Subsidised inputs sell at lower prices. When subsidies are withdrawn their prices would rise. This would affect their sale and use of agricultural inputs resulting in lower agricultural production, particularly food production. This would compel the country to import food-grains. Importing fertilisers and subsidising their use has proved cheaper than buying and importing food-grains from abroad.

ii. The subsidisation of inputs and credit has influenced (and does influence) the acceptance of new technology.

iii. Subsidies, particularly in developing countries, must be construed more as an instrument for protecting the risk-taking function of the farmers than anything else.

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iv. Input subsidisation also prevents rising of foods and raw material prices, thus avoiding the plausible adverse effects of growing industrial sector on large mass of poor living in the developing countries. This has come to be known as the ‘cheap-input-cheap- output’ policy’.

v. Value added by subsidised inputs far exceeds the cost of subsidy.

Arguments against the Continuation of Subsidies:

(1) Fertiliser and irrigation subsidies have widened regional disparities to some extent.

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(2) The maximum benefit of subsidisation of inputs is reaped by large and medium farmers, who possess the capacity to by inputs at higher prices.

(3) Input subsidies tax the budgetary capacity of the government. Fiscal imbalance pave the way for macro-economic imbalances that create inflation, lower growth and increases inability to finance imports. Growth, in order to be sustainable, has to be efficient, and subsidies of the kind that Indian agriculture has been used to make for enormous wastage of power, water, fertiliser and pesticides.

(4) Heavy fiscal burden of subsidy on inputs is also responsible for stagnation, if not decline, in public investment in agriculture.

(5) Subsidy on irrigation through, electricity and canal water causes distortion in cropping pattern in favour of water-intensive crops like paddy in Punjab and sugarcane in Maharashtra. These practices have led to a sharp decline in underground water resources.

(6) Where the prices of inputs do not reflect their scarcity value, there is very little incentive for farmers to adopt methods, which could make more efficient use of scarce resources. A rise in subsidies where prices do not reflect the scarcity value will increase their inefficiencies. This inhibits the growth of water-saving or energy- saving devices, discouraging investment in those industries, which could manufacture these input-saving devices.

(7) Provision of subsidised inputs results in their inefficient and unbalanced use. This, in turn, affects productivity adversely. The limits or constraints of the present subsidies, either from the financial, social, nutritional or environmental point of view, are well-recognised. But it is not possible to replace the present system by any other mechanism of incentives and redistribution.

At least the following three things are clear:

(a) Any fiscal approach to this problem is destined to fail as one cannot politically or reasonably ask a sector that is poorer than others to make bigger sacrifices.

(b) Any reforms that are introduced should be presented as an effort to better utilise subsidies for the greater benefit of farming communities.

(c) The fact at 2 above calls for the active involvement and participation of the concerned communities.

The sequencing of reforms in the agricultural subsidies must start from liberalising the output markets, opening them to exports and thereafter involving farmers in carrying out reforms in input markets particularly for non-tradable inputs like canal water, electricity and rural credit. It is only through such a comprehensive package of reforms that transformation towards accelerated and sustainable growth of Indian agriculture can be achieved.

WTO and Agricultural Subsidies:

In the WTO Agreement on Agriculture (AOA) the approach adopted has been to encourage gradual reduction of trade distorting subsidies. The AOA specifically deals with (i) providing market access, (ii) containing of export subsidies, and (iii) regulating domestic support.

Under the AOA, an index known as ‘Aggregate Measurement of Support’ (AMS) has been introduced. The AMS consists of two parts: (i) product specific support, and (ii) non-product specific support. The product specific support is the difference between domestic support prices (procurement price in India) and external reference price times (i.e. multiplied by) the production which gets such support. Non-product specific support is the sum total of subsidies on inputs like power, irrigation, fertiliser and credit.

The AMS provides an overall permitted measure of subsidies allowed as a percentage of gross production. Under the agreement, product specific and non-product specific supports as measured by the AMS would have to be reduced if they exceed 5 per cent of the value of production. For developing countries, this percentage is 10 per cent.

However, the following are exempted:

i. Government measures, which encourage agricultural and rural development like subsidies for low income producers in developing countries.

ii. Government service programmes like research, pest and disease control, training, extension and advisory services, inspection, marketing and promotion of infrastructural services.

India and AOA:

In India, quantitative restrictions on agricultural imports imposed for BOP considerations have been removed and these imports are placed in the open general licence (OGL) list. In order to provide adequate protection to domestic producers in case of a surge in imports, India can raise the tariffs within the bound ceilings.

India can take suitable measures under WTO Agreement on Safeguards if there is a serious injury to domestic producers due to surge in imports or if there is any such threat.

India’s domestic support to agriculture is well below the limit of 10 per cent of the value of agricultural produce and therefore India is not required to make any reduction in it at present. The subsidies given for PDS are basically the consumer subsidies and are exempt from WTO discipline. India’s system of Minimum Support Price (MSP) as also the provision of input subsidies to agriculture is not constrained by the agreement. Thus, the agricultural sector schemes can be continued under AOA.